Things May Seem Brighter, But This Economy’s Not Out Of The Woods

Things May Seem Brighter, But This Economy’s Not Out Of The Woods
Stéphane Renevier, CFA

5 months ago2 mins

Economist Michael Kantrowitz’s HOPE framework is our crystal ball for predicting the kinds of downturns that happen because of rising interest rates. Its acronym, HOPE, lays out the simple sequence of events that play out: Housing peaks first, followed by new Orders, then companies' Profits, and, finally, Employment. As you can see from the chart, our economic crystal ball has so far proved correct in terms of the sequence: housing began to fall in November 2020, new orders followed in March 2021, and profits in September 2021. Employment, then, should be the next domino to fall.

Yet, despite these classic red flags, the economy's been defying the grim forecast. In fact, we may already be seeing the start of a recovery: Housing is rebounding from its lows, and new orders and profits are stabilizing. Now, even though the recent rally in stocks shows that this is something investors are already expecting, a rebound in growth would still likely be bullish, as sentiment has room to brighten further.

But let’s remember it’s probably too early to pop the Champagne. Maybe the economy's just caught in slow-motion, and the fallout from those rising interest rates is just going to hit us later than expected. There have been some unusual factors working in the economy’s favor, after all. For starters, pandemic-era savings have kept consumers spending and have cushioned the blow to the housing market. Plus, companies have locked in low-cost financing, reducing their sensitivity to the increased cost of borrowing. Plus, the Fed's cash injections have provided a life jacket to the markets and the economy. But if interest rates remain high for longer or climb even further, we could face another tidal wave of economic pressure. And we can't bank on those safeguards being as effective next time around.

Don’t get me wrong: seeing the economy flex in the midst of the HOPE cycle feels like a reason to celebrate. But we might not be out of the woods just yet: the fallout from those steep rate hikes could still be just around the bend. So make sure you keep some level of cautiousness in how you manage your portfolio.



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